Being saddled with debt can impact many areas of your life. It can drag down your credit score, which makes it harder to secure a car or home loan. Then there’s the persistent dread every time bills arrive or the phone rings with an unknown number. It’s no wonder more and more people are researching tactics to get out of debt faster. One common question debtors ask is, “What’s the difference between a balance transfer and debt consolidation?”

The most simplistic explanation is that a balance transfer is a type of debt consolidation. Credit card balance transfers shift credit card debt from one or many cards to another with a lower interest rate. Debt consolidation in general refers to taking out one loan to pay off many others. You can use a debt consolidation program to tackle most types of debt not tied to an asset, but a balance transfer offer only applies to credit card debt.

  1. What is a Balance Transfer?
  2. What is Debt Consolidation?
  3. Which is Better for My Credit Score?

1. What Is a Balance Transfer?

A balance transfer is when you take the balance of the amount you owe from one card and move it to another. For example, if you carry a balance on a high-interest credit card and transfer it to a card with a lower interest rate, maybe even one with a zero percent introductory rate, you will be able to pay down the balance more quickly because you’re paying less in interest charges.

However, understand that the APR will rise after the introductory period, so make sure you’re aware what the standard APR will be.

It’s important to do your homework when considering a balance transfer offer. Add up the total amount of debt you’re carrying on all cards, calculate how much you can pay toward the total debt during the low-APR window and then how much you will pay in interest after the rate reverts to a higher APR. Compare what you would pay at your current APR to the balance transfer opportunity. Don’t forget to add in any fees associated with the balance transfer before making a decision.

If you do decide to move ahead with a balance transfer, remember the low APR only applies to the transferred debt. In most cases if you make new purchases on the card you will be charged the standard APR, which can be much higher.

2. What Is Debt Consolidation?

Debt consolidation consolidates high-interest debts (including credit card balances) into a single, lower-interest payment. This type of program may be able to reduce your total debt and reorganize it so you pay it off faster. Depending on the program, it may be able to negotiate a lower monthly total as well.

There are two main types of debt consolidation programs: secured and unsecured. A secured loan has an asset backing it, such as a home, vehicle or even a retirement fund. An unsecured loan is not tied to collateral, and since it’s more of a risk to the lender, it typically has a higher interest rate than a secured loan. There may be an exception if the borrower has a very high credit score.

A common type of secured debt consolidation is a home equity loan. If there is a significant difference between your current home value and the mortgage balance, you may be able to borrow against that equity to receive a lower rate than with an unsecured loan. An additional bonus is that, in many cases, interest paid on a home equity loan is tax deductible.

It can be crucial to research every debt consolidation lender you consider using, as fraud is a possible risk. A reputable organization will send you everything you need to know about their services without you having to provide any detailed financial information. They will also be licensed to offer services in your state with accredited and certified counselors. Research credit counseling agencies with your state attorney general and local consumer protection agency before signing on the dotted line.

3. Which is Better for My Credit Score?

One option isn’t inherently better than the other for your credit score. It’s actually all about your credit utilization ratio, or amounts owed, which is your total debt compared to your total limits. This typically makes up 30 percent of a credit score. Adding another line of credit with a high limit may reduce your overall ratio and with a lower interest rate, you can pay more toward the principle every month, lowering your debt in the long-term.

One thing to watch out for with balance transfers is unintentionally blasting your utilization ratio by cancelling cards once the debt is transferred. If the limit on the balance transfer card is $10,000 and you transfer $9,500 worth of debt, then cancel the old cards, your utilization rate will jump to 95 percent, which will likely have a negative impact on your credit score. It may be advantageous to keep those old cards open, even if they’re not being used often. Length of credit history typically contributes about 15 percent of your credit score.  Instead, consider hiding your paid-off cards somewhere secure to maintain credit history without giving in to impulse purchases.

Finally, remember that both a balance transfer and a debt consolidation loan are considered new credit applications, which can impact your credit score in the short-term.

Whichever route you choose congratulations on taking important steps toward getting out of debt! If you would like to speak to an agent about a home equity loan, our team of experts at Discover would be happy to discuss your situation and provide options for living debt-free sooner.

Published February 17, 2015.

Updated May 4, 2020.

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